OpenTable Downside Scenarios to Our $65 Estimate

A few weeks ago, we presented our views on the extreme fluctuation witnessed in OpenTable’s (NASDAQ:OPEN) share price last year through the article, So What’s Going on with OpenTable’s Stock? In 2011, the online restaurant reservation company’s shares rose from under $75 at the beginning of the year to breach $118 in April, before plunging to below $30 within a period of 7 months. OpenTable’s shares are currently trading at around $40 apiece. This is not far from the $45 and $49 price targets with which Goldman Sachs (NYSE:GS) and Credit Suisse (NYSE:CS) respectively initiated their coverage of the company recently.

But we still stick to our $65 price estimate for OpenTable, with our reasons for this stance detailed in our article Does OpenTable Really Have to Worry About Google? We, however, do acknowledge the fact that there are some plausible scenarios that present a significant downside to our price estimate. In this article, we enumerate what we believe are scenarios which lend the largest downside to our $65 target.

OpenTable’s expenses continue to grow rapidly with the company spending more in both the saturating North American market as well as the recently entered international markets. We have already factored this point in our analysis of OpenTable. This can be visualized in the chart below. Do note that although the SG&A as a % of revenues is seen to decrease in this chart, this represents a nearly 10% year-on-year increase in OpenTable’s SG&A expenses in dollar terms.

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﻿While we recognize that a rapidly growing company must spend in order to sustain its growth, if OpenTable’s increased SG&A spend keeps outpacing revenue growth, as it has in recent quarters, then margins are going to take a serious hit. To understand the impact, if we consider a scenario in which the year-on-year growth in SG&A expenses is 15% instead of the 10% assumed now, our price estimate changes to just above $55 – a 15% decline from our $65 price estimate.

Competitors May Force OpenTable to Reduce Reservation Fees

OpenTable charges restaurants 25¢ per diner who reserves a table through the restaurant’s own website, and $1 per diner who reserves through the opentable.com website or using the OpenTable mobile application. Through this pricing structure, OpenTable has seen an increase in the effective revenue per diner from 68¢ in 2007 to just above 70¢ now.

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Data about per diner revenues and total number of diners seated provided by the company in its annual reports helps conclude that currently about two-thirds of the diners make reservations at restaurants using the opentable.com website or through the mobile app, with the rest using the restaurants’ own websites. And the former category is clearly expected to grow at a much faster rate than the latter as OpenTable continues to gain popularity among diners.

But the increasing competition in the online restaurant reservation industry for OpenTable – primarily from Urbanspoon and Livebookings – could force OpenTable to rethink its pricing strategy. The competitors are already trying to undercut OpenTable by capitalizing on the growing dissent among restaurants over the 25¢ per diner OpenTable charges for reservations through the restaurant’s own website. As restaurant owners believe that OpenTable does not bring them these diners, they are reluctant to pay these charges, which all of OpenTable’s competitors have waived off.

Considering the scenario in which OpenTable is forced to waive off this 25¢ per diner fee henceforth, the per diner reservation revenue will fall to 58¢ for 2012 and will likely settle at just above 60¢ at the end of our forecast period. This shaves off more than 10% from our $65 price estimate, as you can see by making changes to the chart above.

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